Roughly 15 years after the first private equity (PE) dollars started trickling into India, PE funds find themselves in a rather tight spot. In the next 12-18 months, one bunch of firms, mostly the newer ones, will desperately try to close the funds they have just set out to raise. Another bunch, slightly older ones, will be equally desperate to deploy about $20 billion-$30 billion they have already raised.

A third bunch will also face their moment of reckoning. They had raised $15 billion-$ 16 billion by 2006-07 and deployed much of it. Now, these will need to be returned and redistributed to investors, hopefully yielding good returns.

As the next 12-18 months run their course, multiple sources in the PE industry are bracing themselves for the worst nightmare to be played out – failures on all three counts. "In a year to 18 months there will be closure, mergers or sales of PE funds," says Markus Ableitinger, a director with Switzerland-based Capital Dynamics, an assets management firm, with investments in private equity.

"Returns have been disappointing and there is nothing to be done but accept this new reality." Adds Anil Ahuja, Asia head of 3i: "In 2012-13, the industry could face another fierce round of consolidation." The PE fund has over $1.2 billion invested in India.

Ahuja estimates there are 400 PE funds in the market and another 400 firms in the form of NBFCs, family offices and so on who also want a bite of this market. "In this overcrowded market, Limited Partners (the investors who back PE funds) are asking a lot of tough questions." They are warily watching their investments from New York, London and Singapore and beginning to get increasingly agitated.

"India has been a very challenging market... exits have been low," concedes Ahuja.

The PE industry finds itself in a pressure cooker situation which is at least partially, its own making. It is now hard to raise funds. It is harder to find companies to invest in. And where PE funds do strike deals, working with promoters is more difficult than before. Many cases of PE-promoter conflict are emerging.

The economic environment is also making it harder for PE funds to fulfill their primary competence – build value in the companies they have invested in. And finally, exiting these investments is turning out to be the hardest. With stock markets in a freefall, IPOs – private equity's most preferred exit route in India – has slammed shut.

Subbu Subramaniam, who has seen the evolution of private equity in India first hand, first with Barings and then with his own unit called MCap, sums it all up bluntly: "PE in India has not delivered the returns expected."

The pressure is telling. The impending consolidation will take many forms, say experts. LPs could downsize the number of firms they invest in, take longer to invest and commit smaller amounts to each fund. Many funds are likely to fail to deliver expected returns; some may even have to ask for more time to exit investments and return the money to LPs.

Raising Money

In September 2006, PE firm Everstone Capital raised its first $425 million fund in barely 90 days. But it spent a year closing its second $550 million fund in March this year, according to Sameer Sain, managing director, Everstone. This time, Sain says, investors spent time meeting all their employees, doing multiple reference checks with portfolio companies and verifying their credentials.

In 2008 (see table) PE funds raised over $5 billion in funds for India; this has fallen to just over $3.5 billion up to November 2011, according to data from Venture Intelligence, a Chennai-based tracker of venture capital and PE deals.

"The world view of LPs has changed ... liquidity is a major concern today," says Subramaniam. "While an average manager or above-average private equity manager can still raise money in China, it's not the case in India now," says Doug Coulter, a Principal with Switzerlandbased LGT Capital Partners, which has over $21 billion in funds under management. "There are some Indian managers, which claim that their funds are oversubscribed and they're telling LPs that there is no allocation available.

This seems to be the exception, rather than the norm," adds Coulter, who has backed PE funds in India.

There are at least a dozen or more new funds in the market to raise $100 million or more. Industry experts such as Subramaniam of MCap think very few of them will be successful — especially if they are in the generic growth capital space, with little differentiation. Several of them will scale down plans or simply fade away.

Finding Deals

"India is not an easy market for private equity," says Ableitinger. "It is not easy to acquire a stake in a company at favourable prices... competition is relatively fierce in India, with different fund types competing for quality deals." LPs say entrepreneurs are in no hurry to sign term sheets, a nonbinding agreement to finalise investments.